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Turkish lira strain shows as London overnight rates soar

By Ali Kucukgocmen, Nevzat Devranoglu and Jonathan Spicer

ISTANBUL, Aug 4 – Interest rates on overnight swaps for Turkey’s lira hit 1,050% Tuesday, the highest in more than a year, in an offshore market that Turkish authorities have starved of liquidity as part of a costly effort to boost the currency.

Analysts said a cash crunch and continued pressure from Ankara pushed the London market rate to its highest since March 2019, reflecting one area of fallout from Turkey’s high-stakes effort to rein in FX trading.

While the spike in borrowing costs would normally signal rising risk, the lira mounted a late rally in the spot market and was up 0.8% at 6.891 against the dollar at 1746 GMT.

Rates in the offshore market – once widely used for hedging and shorting by overseas investors who have severely cut their stakes in Turkish assets – stood at 30% late last week when the lira touched a record low against the euro.

One banker said cash was “uber tight” in the London market after a four-day Turkish holiday weekend. Another said “rates surge whenever there is some demand” after a such a long period of low volumes.

Turkey’s central bank and state banks have spent tens of billions of dollars to stabilize the lira, data and calculations made by traders show. If it cannot rebuild depleted reserves soon, Ankara risks more lira depreciation, higher inflation via imports and a swollen current account deficit, analysts say.

The central bank’s governor repeated last week that reserves naturally fluctuate during times of stress such as a pandemic.

But Goldman Sachs predicted the bank would soon have to hike policy rates because of the thin buffer and falling currency, saying: “Attempts to keep the lira at certain levels are unlikely to work.”

During a lira sell-off in March and April last year – when the overnight swap rate hit 1,200% – Turkish authorities directed banks to curb trading in the London market and have continued to tighten such rules this year.

The offshore market had remained largely dormant until Tuesday when rates spiked, Refinitiv data showed.

After an unusually stable two months around 6.85 versus the dollar, due in part to the costly state interventions, the lira was hit last week by selling and volatility that reflected some concern over Turks buying more hard currency.

The lira touched a record low against the dollar in May and briefly traded beyond 7.0 last week.

“A break above 7 is probably only a matter of time unless the outlook for the Turkish economy improves significantly over the next few months,” said Piotr Matys, senior strategist at Rabobank.

Ankara appeared to be trying to discourage bearish bets by making the London market as expensive as possible, he said.

Turkey’s main share index BIST100 fell as much as 5% during the day as analysts said investors sought lira liquidity. Turkey’s dollar bonds also fell 1.9 cents, while five-year CDS default insurance closed at the highest since mid-May.

(For a graphic of the swaps rate vs spot price, click: https://tmsnrt.rs/3kciWKn)

(Editing by Dominic Evans, Alexander Smith, Alexandra Hudson and Timothy Heritage)

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